In hindsight, of course, it seems obvious to discern when to overweight a particular factor. But engaging in factor rotation in real time can be challenging, as research studies[1] have shown. At the same time, diversification appears to be sub-optimal for medium and long term, because strategies such as momentum can potentially suffer massive drawdowns in a short period of time and erase months or years of returns. This is because momentum returns are negatively skewed; when negative returns are clustered, losses can become extreme, such as during the three-month period of March-May 2009 when a long-short momentum strategy lost as much as 156%[2].

Macroeconomic or Risk-Based Approach

We believe there is evidence that a regime-based medium- to long-term model is better suited for overweighting specific factors; for instance, a well-known early work by Lucas (2002)[1] finds that business cycle-oriented style rotation delivers better performance than pure statistical methods.

At Astor, we use our proprietary macroeconomic indicator, the Astor Economic Index®, combined with risk metrics, to determine when market conditions or business cycle appear to favor a particular factor.

Exhibit 4: Average Monthly Returns of Russell 1000 Momentum Factor Index in various stages of economic growth cycle as measured by the Astor Economic Index® and stock market volatility (measured by VIX)

Low Stock Market VolatilityHigh Stock Market Volatility
Strong Economy+2.44%+0.97%
Weak Economy+1.34%-1.51%

Source: Bloomberg, Astor Calculations (June 2001 – March 2017)

As Exhibit 4 illustrates, the momentum factor is best avoided when the economy is weak and stock market volatility is high. In fact, during times of market contractions, low volatility stocks have historically provided a buffer, potentially leading to outperformance in bear markets while tending to lag during bull markets as shown in an earlier example.

In conclusion, there are valid grounds for pursuing factor rotation, because performance among factors typically varies based on market conditions. But how to accomplish that goal has eluded investors. In the short-term, research suggests that diversification across multiple factors is the best way to guard against unfavorable performance in a specific factor.

For the medium and long term, however, research suggests that other approaches can be effective for factor rotation. Using the business cycle or a risk-based approach appears promising to determine the macroeconomic conditions that would likely be better suited for one factor versus another.

This article was written by Deepika Sharma, Portfolio Manager/Managing Director at Astor Investment Management, a participant in the ETF Strategist Channel.


All information contained herein is for informational purposes only. This is not a solicitation to offer investment advice or services in any state where to do so would be unlawful. Analysis and research are provided for informational purposes only, not for trading or investing purposes. All opinions expressed are as of the date of publication and subject to change. Astor and its affiliates are not liable for the accuracy, usefulness or availability of any such information or liable for any trading or investing based on such information.”

The Astor Economic Index® is a proprietary index created by Astor Investment Management LLC. It represents an aggregation of various economic data points: including output and employment indicators. The Astor Economic Index® is designed to track the varying levels of growth within the U.S. economy by analyzing current trends against historical data. The Astor Economic Index® is not an investable product. When investing, there are multiple factors to consider. The Astor Economic Index® should not be used as the sole determining factor for your investment decisions. The Index is based on retroactive data points and may be subject to hindsight bias. There is no guarantee the Index will produce the same results in the future. The Astor Economic Index® is a tool created and used by Astor. All conclusions are those of Astor and are subject to change.


[1] André Lucas, Ronald van Dijk, Teun Kloek, “Stock Selection, Style Rotation, and Risk”, Journal of Empirical Finance, Volume 9, Issue 1, January 2002

[2] Asness, Clifford S. and Chandra, Swati and Ilmanen, Antti and Israel, Ronen, “Contrarian Factor Timing is Deceptively Difficult”, (March 7, 2017). Journal of Portfolio Management, Forthcoming.

[3]Kent Daniel, Tobias J. Moskowitz, “Momentum Crashes”, Journal of Financial Economics (November 2016)